Ambarella Inc: This AMBA Stock Trade Has 217% Upside

By Patrick Brik, BAS Published : July 22, 2016

Bullish Tailwinds for AMBA Stock

Ambarella Inc (NASDAQ:AMBA) stock was an all-star performer, even boasting returns of 2,033% at one point. Since July 2015, though, AMBA stock has endured a painful slide, down 73% from peak to trough. Will Ambarella stock’s downward slide continue?

Most of us have heard the saying, “What goes up must come down.” It doesn’t really apply directly to stocks, but it happens to be especially true in Ambarella’s case. But there is another saying I have come up with that I like to use specifically for stocks like AMBA: “if it rose once, it can rise again.”

That’s my premise for AMBA stock at this time. I believe the bear market that ravaged shares beginning in 2015 has abated and shares will appreciate.

If you have read any on my previous pieces, you will notice how enamored I am with chart patterns confirmed with either the golden cross or the death cross signal. In my opinion, chart patterns are a good way to systematically put buying and selling pressure into one concise picture. Specific patterns emerge that act as continuation patterns, confirming the current trend, or reversal patterns pop out, confirming a new trend is happening.

Simply put, a golden cross indicates a bull market is on the horizon, while a death cross indicates a bear market is on the horizon. The signal is confirmed when the faster moving average (the 50-day moving average) moves above or below the slower moving average (200-day moving average). The golden cross and death cross are exact opposites.

Here is an example of these indicators during the bull run that subsequently ended with a double top confirmed by a death cross on that chart.

On July 2014, the moving averages were on the verge of executing a death cross, but that signal was averted. Averted signals have a tendency of producing extreme outcomes. Share prices went on a parabolic run, rising 294% over 12 months.

AMBA stock spent the summer of 2015 forming a double top reversal pattern. A break below support at $90.00 confirmed this reversal pattern. On October 15, 2015, the death cross executed at the share price of $56.50 confirmed a bear market. Shares continued to slide for the next several months bottoming at $35.00 apiece.

The chart below illustrates how the same indicators that signaled the bear market are now signaling a trend reversal.

AMBA stock spent the duration of five months forming a double bottom reversal. This pattern was confirmed on June 6, when shares broke above the horizontal resistance.

Today, the golden cross has executed and is suggesting a bull market is on the horizon. This signal comes as shares are trading at $56.50, which coincidentally, is the same price shares were at when the death cross was executed on October 2015.

The double bottom signals a reversal of the trend and the golden cross confirms a bull market is ahead.

Fibonacci retracement numbers are a very popular tool used by technicians.

In theory, when a stock breaks a primary trend, shares will retrace approximately 50%–62% of that trend. My expectations are that shares of AMBA stock will trade up, to test the Fibonacci 50%–62% retracement zone. This zone currently sits between $81.00 and $92.00. It provides a potential 40%–60% return from the stock’s current levels.

If those returns don’t sound appealing, options could be used to increase potential return.

Using a bull call spread would effectively capture our objective. This strategy involves simultaneously buying calls at one price and selling an equal amount of calls at a higher price. Your only risk as an investor is the initial outlay used to put the trade.

For example: buying one January 19, 2018 $65.00 call contract for $11.30 and selling one January 19, 2018 $85.00 call for $5.00 would result in a net outlay of $6.30 per contract. At expiration, if shares are trading above $85.00, the net value of the trade will be $20.00—a profit of 217.5%.

The Bottom Line on AMBA Stock

The same indicators that signaled a bear market for AMBA stock are now signaling a bull market. New signals, as recently as today, confirmed the trend reversal. If one has an increased appetite for risk, options are an effective alternative.